The Liberal government’s 2016 tax hike on Canada’s top one per cent not only failed to yield the promised billions, but resulted in a net revenue loss for government coffers, according to a new report released by the C.D. Howe Institute.
After adjusting for economic changes and one-time factors, the paper estimates, based on 2016 tax data, that the Liberals’ new tax bracket for top earners creates $1.2 billion in new revenue for the federal government but a $1.3 billion loss for provincial governments.
As such, “the hike was a revenue loser on a national scale,” writes study author Alexandre Laurin, director of research at the Institute.
However, commenting on the results of the report, Finance Canada official Jack Aubry told Global News via email that “preliminary statistics for the 2017 tax year are broadly indicative of a substantial rebound in taxable income reported by high-income taxpayers in 2017.”
For now, though, “it is too early to quantify this effect,” Aubry added.
In December 2015, the Trudeau Liberals announced that the tax rate on income over $200,000 would go up four percentage points, from 29 per cent to 33 per cent. This was meant to help offset the revenue losses from the government’s signature “middle class tax cut,” which reduced the tax rate on incomes between about $45,000 and $90,000 by 1.5 percentage points, from 22 per cent down to 20.5 per cent.
Tax data from the Canada Revenue Agency (CRA) revealed this summer that Ottawa’s tax hike failed to live up to its revenue-boosting expectations in its first year of implementation. The numbers showed that high-income earners actually paid $4.6 billion less in federal tax in 2016, the first year the tax changes took effect. That was a far cry from the $3 billion in new revenue that the Liberal Party’s campaign platform said the new tax would raise.
Finance Minister Bill Morneau’s office, however, has maintained that the revenue drop for 2016 was a one-off event. Because the government announced the changes in late 2015, high-income taxpayers had an opportunity to shift some of their income to the 2015 tax year, thus partially avoiding the new tax bracket — at least temporarily.
Top earners are more likely to receive some of their income through dividends and to have some discretion over the timing of those dividend payouts. As a result, many decided to pay themselves through dividends in 2015, inflating tax revenues for that year and resulting in a drop the following year.
The recession in Alberta also likely took a toll on 2016 revenues, as a large chunk of Canada’s top earners live in that province.
But an analysis of the data that adjusts for the impact of the dividends maneuver and economic factors still shows that the tax hike would have fallen far short of the hype, according Laurin.
Laurin’s calculations show that the higher tax on Canada’s one-percenters would have added only $1.2 billion in fresh federal revenues. That’s just over a third what the Liberals initially predicted and slightly over half the $2 billion that a later, revised estimate from Morneau’s office said the tax would bring in during its first full year of implementation.
LISTEN: Alex Laurin of the C.D. Howe Institute joins Rob Breakenridge to discuss his study of the 2016 tax hike
Worse, that $1.2 billion in federal revenue gains is less than the $1.3 billion in lost revenue that the tax hike would have cost the provinces, according to Laurin’s analysis.
Preliminary statistics for the 2017 tax year are broadly indicative of a substantial rebound in taxable income reported by high-income taxpayers in 2017, but it is too early to quantify this effect.
Studies have shown that top earners are more likely than lower-income taxpayers to react to tax increases by reducing their taxable income. This may be because the wealthy have access to more sophisticated tax advice, are more easily able to shift assets to lower-tax jurisdictions or can afford to simply decide to work less given that they get to keep less of their money.
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Canada’s one-percenters appear to be no exception, and their efforts to minimize the impact of the higher federal tax rate resulted in lower taxable income at the provincial level as well. But because the provinces haven’t raised their top tax rate, provincial government coffers suffered a net revenue loss of $1.3 billion, Laurin’s analysis shows.
He adds that Ottawa could try to tackle the issue by pouring more resources into tax enforcement, although that would only make sense “to the extent that additional revenue collection from top earners exceeds the extra enforcement costs.”
Another option is to slightly lower the new 33 per cent tax rate so that the combined federal and provincial top tax rates fall around the 50 per cent mark. This “would cost little federally, while provinces would enjoy a [revenue] windfall,” Laurin writes.
Finally, Ottawa could raise the income threshold for the top tax rate — the current $205,800 — to $411,600. This would cost the federal government around $500 million a year, but pump around $700 million a year more into provincial budgets.
The latter would be “a major bonus in an environment where fiscally pressured provinces are pushing Ottawa for more cash,” writes Laurin.
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